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Dow Chemicaldow 0.48755006094375763%Dow Chemical Co.U.S.: NYSEUSD57.71
0.280.48755006094375763%
/Date(1481320867329-0600)/
Volume (Delayed 15m)
:
6508968AFTER HOURSUSD57.86
0.150.25992029111072606%
Volume (Delayed 15m)
:
102604
P/E Ratio
9.116903633491312Market Cap
64400910106.6226
Dividend Yield
3.1883555709582394% Rev. per Employee
940990More quote details and news »dowinYour ValueYour ChangeShort position
could be one of the industry's best growth stories. Several big projects are set to come on stream in the coming years, and the company's earnings could double to $6 a share by 2018 from a projected $3 this year.

Some of that growth potential is reflected in Dow Chemical's shares, which are up 21% this year, to $54, and 57% above where they stood a year ago. Most Street analysts have price targets in the $50s, but these could prove conservative. With $4-plus in profits possible next year, the stock (ticker: DOW) could rise into the $60s. Combine that with a 2.7% dividend yield and the total return could be 20%.

The company, valued at $65 billion, has an underappreciated asset base that includes a large petrochemical division benefiting from low domestic costs for inputs, including natural gas and related liquids, such as ethane and propane. Dow also produces specialty chemicals, and has an agricultural division that is a small-scale
MonsantoMON -0.10506208213944604%Monsanto Co.U.S.: NYSEUSD104.59
-0.11-0.10506208213944604%
/Date(1481320918232-0600)/
Volume (Delayed 15m)
:
2405411AFTER HOURSUSD104.59
%
Volume (Delayed 15m)
:
18317
P/E Ratio
34.4046052631579Market Cap
45877025326.001
Dividend Yield
2.065206998757051% Rev. per Employee
648558More quote details and news »MONinYour ValueYour ChangeShort position
(MON), with a new line of genetically modified, herbicide-resistant corn and soybean seeds expected to hit the U.S. market next year. The ag unit is likely to produce $1 billion of pretax cash flow this year.

Another plus for shareholders is that Dow Chemical's management, led by CEO Andrew Liveris, has been under pressure since activist investor Dan Loeb of Third Point took a reported $1.3 billion stake in the company this year and urged it to split its commodity-petrochemical and specialty-chemical businesses. He criticized Dow's "poor operational track record" and margins, which have been weaker than those of petrochemical rival
LyondellBasellLYB -2.3415065164568145%LyondellBasell Industries N.V. Cl AU.S.: NYSEUSD88.42
-2.12-2.3415065164568145%
/Date(1481320876041-0600)/
Volume (Delayed 15m)
:
2893555AFTER HOURSUSD88.42
%
Volume (Delayed 15m)
:
127894
P/E Ratio
9.816700158763641Market Cap
36897222139.4568
Dividend Yield
3.8452838724270526% Rev. per Employee
2192380More quote details and news »LYBinYour ValueYour ChangeShort position
(LYB). In a May 1 letter to Third Point investors, Loeb argued that Dow Chemical is "under-earning" by "at least $2.5 billion" annually in petrochemicals.

Dow Chemical has rejected the breakup argument, and instead is pursuing more modest divestitures, totaling $4.5 billion to $6 billion of lower-return operations.

But Loeb might be having some impact.

Last week, the company reported better-than-expected second-quarter earnings of 74 cents a share, and showed signs of greater operating efficiencies. Dow also is boosting its cash returns to shareholders. It returned $3 billion in the first half—about $2.1 billion in buybacks and $900 million in dividends. Another $2 billion of buybacks are expected in the second half. And on the earnings conference call, Liveris declared, "Our unrelenting focus remains on generating returns that exceed the cost of capital, generating cash, and rewarding our shareholders."

"DOW CHEMICAL IS QUITE unique in the industry," says Hassan Ahmed, a senior research analyst at Alembic Global Advisors, a New York research boutique. "There is still significant earnings growth ahead." He sees the potential for $13 billion to $16 billion of pretax cash flow, based on earnings before interest, taxes, depreciation, and amortization in 2017, which could translate into about $7.50 in earnings per share.

Part of Ahmed's bullish argument is that the price of ethylene, a basic petrochemical used for plastics, could climb by 10 cents to 20 cents a pound in the coming years from a recent 47 cents, due to rising demand and limited new global capacity. Another bull, John Roberts of UBS, sees $5.75 a share of 2018 earnings, about $1 above the consensus forecast.

Founded in 1897, Midland, Mich.–based Dow is a large and complex company with $58 billion in projected 2014 sales. At 201 sites in 36 countries, it makes commodity chemicals like ethylene and propylene as well as a range of more complex products including adhesives and sealants. It has six operating divisions. Electronic & Functional Materials and Coatings & Infrastructure Solutions are specialty divisions, while Performance Materials, Performance Plastics, and Feedstocks & Energy have more of a commodity bent. The sixth unit is Ag Sciences.

IF THE STOCK STAYS AROUND current levels, Dow would eagerly redeem the preferred to eliminate some $340 million in annual dividend payments—which aren't tax-deductible and equal almost 30 cents a share in earnings. Dow won't get the full $340 million benefit because, to redeem the shares, it will have to issue about $5 billion of equity and perhaps debt. But the company would benefit because the equity would pay a relatively modest dividend, while any debt would carry a low interest rate.

Dow Chemical's main new projects include a giant petrochemical complex in Saudi Arabia called Sadara with a cost of $20 billion, due to start up in 2015. Dow Chemical holds a 35% interest. Saudi Aramco (the state oil company) owns 65% but plans to trim that to 35% by selling a 30% interest publicly. Then there are several big chemical plants under construction or expansion on the Gulf Coast, to take advantage of low-cost domestic natural gas and natural-gas liquids. One will produce propylene (a building block for many high-value specialty chemicals) and is expected to begin operations in 2015. An even larger one will make ethylene (the basis for many softer plastics); it's slated for completion in 2017.

Combined, these facilities could produce $3 billion of pretax cash flow (Ebitda), compared with a companywide base this year projected at $9 billion. These plants alone could generate about $1.50 in earnings per share by 2018, according to UBS' Roberts.

The desirable and little-known agriculture business could command up to $15 billion from the likes of
DuPontdd 0.22763792179967862%E.I. DuPont de Nemours & Co.U.S.: NYSEUSD74.85
0.170.22763792179967862%
/Date(1481320939263-0600)/
Volume (Delayed 15m)
:
2257803AFTER HOURSUSD74.98
0.130.1736806947227789%
Volume (Delayed 15m)
:
101118
P/E Ratio
33.041981194543766Market Cap
64922459330.2435
Dividend Yield
2.0307281229124916% Rev. per Employee
474942More quote details and news »ddinYour ValueYour ChangeShort position
(DD) if it were to go on the block. The ag division is strong in "traits," the critical DNA strains that go into seeds that make plants resistant to herbicides. DuPont is weak in traits, but has an excellent distribution network. Dow Chemical sees a doubling in ag profits by the end of the decade.

In a January investor letter, Loeb noted that Dow Chemical shares, then trading in the low $40s, had "woefully underperformed" both the Standard & Poor's 500 index and the S&P 500 Chemicals index in the prior decade, returning 46% (including dividends) versus 101% for the S&P 500 and 199% for the chemicals index. The letter amounted to a rebuke of Liveris, who has been Dow's CEO since late 2004.

The Bottom Line

Dow Chemical, recently in the $50s, could hit the $60s in a year, while offering a nice dividend.

The "weak performance," Loeb wrote, was "even more surprising" because Dow has been aided by the North American energy boom that has led to cheap natural gas and natural-gas liquids. Neither Loeb nor Liveris were available for comment.

DOW CHEMICAL'S STRATEGY FOR dealing with Loeb seems to be this: Produce strong results, lift the stock price, and thus blunt the activist threat. In Ahmed's view, that has helped create a win-win situation for shareholders: "As Dow delivers, it's good for the share price, and as Dan Loeb puts pressure on Dow, it's good for the share price."

Asked on the conference call last week about a possible sale of the agricultural business, Liveris replied, "There are no sacred cows here. We're not keeping the business for the sake of keeping it. There's none of that…we are open to any sort of combinations." While the company is probably too big to be bought, it could benefit from further divestitures or a breakup.

Regardless of what happens, the chemistry looks very good for investors.